Problems With Warranties on Business Sales

When a company’s shares are sold and the business continues, it is usual for some form of warranty to be given with regard to the accuracy of any information provided to the purchaser.



Sometimes there will be an ‘earn out’, which limits the risk to the purchaser by making the ultimate price payable dependent on the performance of the company over a period of time under the new ownership.



Disputes over the accuracy of information provided to purchasers are common, normally arising when the performance of the company which has been purchased disappoints.



Two recent cases have dealt with the issues that can be involved in these sorts of disputes, especially with regard to the value of the losses which have been claimed.



Where the ownership of the entire share capital of a company is involved, the loss will normally be calculated on the amount that would have been paid for the business had the representations not been untrue or incorrect – i.e. on the real position of the company sold, not as it was represented to be.



However, where the sale is of less than the entire shareholding, the calculation will tend to be made on the reduction in the buyer’s inward cash flow that has resulted from the misrepresentation.



Typically, a sale agreement will contain a cap on the damages payable, which will apply unless the representations are deemed to be fraudulent.



As can be seen, there is a great deal of room for negotiation in agreeing the warranties given and, unless great care is taken over their wording, for argument afterwards.